C. Bradshaw Davis, CLU, ChFC, CLTC

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Market Commentary - 9.18.14

September FOMC Meeting Update

This past Wednesday, the U.S. Federal Reserve concluded its sixth scheduled Federal Open Markets Committee (FOMC) policy meeting for 2014. As is normal at the end of the meeting, the Committee released a statement which is used as a key tool in the Fed's "forward guidance," by which the Committee provides an indication to the markets and investors about the stance of monetary policy expected to prevail in the future. There are two more meetings scheduled for the year.

The most recent statement affirmed the Fed's stance to keep policy rates at the current near zero for "a considerable time" after the end of the asset buying program (often referred to as Quantitative Easing or Q.E.), which is likely to conclude next month. The Committee lowered the pace of Q.E. asset purchases by $10 billion per month for October, and will purchase $5 billion per month of agency mortgage-backed securities and $10 billion per month of longer-term Treasury securities. The existing policy of reinvesting principal payments and rolling over maturing securities will be maintained.

The Committee also outlined the steps that will likely be followed in the event that they decide to tighten in the future in a Policy Normalization statement. The federal funds rate will remain the primary interest rate target for the FOMC, and raising the rate to the target will be accomplished by a combination of paying interest on excess reserves (IOER) as well as draining liquidity via overnight reverse repo agreements. The FRB will also stop reinvesting the proceeds from maturing or repaid securities and will instead allow these to run-off its balance sheet. No sales of bonds are likely as part of this process.

The meeting also projected an increase in borrowing costs next year, raising the median forecast for the federal funds rate at the end of 2015 to 1.375% from June's estimate of 1.125%. The committee also released the first forecast for 2017, projecting a federal funds rate of 3.75% at the end of that year.

We believe that the Federal Reserve will continue to gradually remove the pace of accommodation, as is described in their forward guidance. Inflation pressures remain relatively low in our view, and without a major change in outlook, there may also be fewer reasons for policy readjustment. The normalization of rate conditions, however, is likely to lead to a period of increased interest rates, with higher volatility in the short and intermediate rates.

We retain a conviction that a mix of short to intermediate bond investments may be reasonable for the current environment, and that an emphasis on active management and credit vs. treasury exposure may add value. In our tactical portfolios we maintain a duration that is shorter than the Barclay's aggregate index, with a heavier allocation to credit and higher yielding investments.

This information is compiled by Cetera Investment Management.

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